A Faustian Bargain for Ukraine?

Earlier today Russia intervened dramatically in Ukraine’s political turmoil with an offer to sell the cash-strapped country deeply discounted natural gas. The New York Times captured the prevailing wisdom when it wrote that it was unclear what “Russia might receive in return for its assistance”. Here’s an answer: Russia will receive immense leverage over Ukraine. Indeed history suggests that cheap energy is much more effective than expensive energy as a true source of geopolitical leverage.

Most people who think about energy and geopolitics understand that the “oil weapon” is weak: if an oil supplier cuts off a customer, that customer can turn elsewhere and still pay the market price. Natural gas is more complicated, since markets are more rigid, but many countries still have considerable flexibility in sourcing their supplies.

But, as a team at the RAND Corporation pointed out smartly a few years ago, this logic falls apart when the starting point involves bargain basement supplies. Imagine that Kuwait, instead of selling the United States oil for the roughly $100 a barrel that markets currently command, sold the same oil from $20 a barrel. The Kuwaitis would suddenly gain immense leverage: they could threaten to hike prices to market rates, and while the United States could turn elsewhere for crude, it wouldn’t have any way to avoid the painful price increase. The same is true for the relationship between Venezuela and Cuba: Venezuela sells Cuba cut-rate oil, which allows it to exert leverage by threatening to revert to prevailing market prices. Indeed one can interpret the 1973 oil crisis as a variation on this theme: OPEC countries were only able to hike prices rapidly because those prices had been artificially suppressed beforehand.

Now Ukraine is sliding (back) into a similar relationship with Russia. One Ukrainian parliamentarian observed today that “free cheese is only found in a mousetrap”. That seems to be most people’s instinct, and as a result, they’re trying to figure out what the secret deal is. But the metaphor, while compelling, is imperfect, since the consequences for Ukraine of accepting cheap natural gas need not be immediate. Alas that fact shouldn’t be comforting: long term dependence can be far more pernicious than a one-off deal.